Carbon Emissions Trading – Need, Working, Pros, Cons, Alternatives

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Carbon emission trading is currently one of the popular approaches used by policymakers to mitigate climate change. However, there is a growing number of cases of countries or private players exploiting the flaws or loopholes that exist within this mechanism. Reforming to address these gaps also seems to be a difficult feat as there are interferences from powerful players involved in pollution, making it highly unreliable. Thus, there is a need for a new approach, the one that comprehensively addresses the existing limitations and transparently reduce emissions while also promoting the inclusive economic growth of the countries.

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What is carbon trading?

  • Carbon trading or carbon emissions trading is a market-based system that aims to reduce greenhouse gases that contribute to global warming, especially carbon dioxide emitted by burning fossil fuels.
  • Carbon trading currently contributes to a bulk of emission trading, an approach that provides economic incentives for achieving the reduction of pollutant emission.
  • This approach is most commonly used by countries to meet their obligations specified by the Kyoto Protocol like the reduction of carbon emission to mitigate the effects of climate change.

What do the Kyoto Protocol and Paris Agreement say about emission trading?

Kyoto Protocol:

  • Article 17 of the Kyoto Protocol allows countries that have emission units to spare i.e., emissions permitted to them but not “used” to sell their excess capacity to countries that are over their targets.
  • This led to the creation of a new commodity in the form of emission reduction or removals.
  • Since carbon dioxide is the principal greenhouse gas, people speak simply of trading in carbon.
  • Carbon is now tracked and traded like any other commodity. This is called ‘Carbon Market’.
  • More than actual emission units can be traded and sold under the Kyoto Protocol emissions trading scheme.
  • The other units that may be transferred under the scheme, which is equal to one tonne of CO2 may be in the form of:
  • A removal unit (RMU) based on land use, land-use change and forestry activities such as reforestation.
  • An emission reduction unit (ERU) generated by a joint implementation project
  • A certified emission reduction (CER) generated from a clean development mechanism (CDM) project activity. It is an activity wherein a country with the emission-reduction target under the Kyoto Protocol is allowed to implement an emission-reduction project in developing countries.
  • The transfers and acquisition of these units are tracked and recorded through the registry system.
  • An international transaction log ensures the secure transfer of emission reduction units between countries.

Paris Agreement:

  • Article 6 of the Paris Agreement provides for three separate mechanisms for voluntary cooperation – two based on markets and a third based on “non-market” approaches.
  • The first mechanism would allow a country that has beaten its Paris climate pledge to sell any overachievement to a nation that has fallen short against its own goals. This overachievement could be in terms of emission cuts, but might also cover other types of target like renewable energy goals or forest expansion targets.
  • The second mechanism would create a new international carbon market, governed by a UN body, for the trading of emissions reductions created anywhere in the world by the public or private sector. It is yet to be decided whether to include projects reducing emissions from deforestation and forest degradation known as REDD within Article 6.
  • The third mechanism of Article 6 for “non-market approaches” is less well defined. It would provide a formal framework for climate cooperation between countries, where no trade is involved, such as development aid.

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How does carbon trading work?

  • Policymakers have three options to reduce greenhouse gas emissions. They are:
  • Setting a specific emission limit that a company cannot exceed
  • Introducing a carbon tax wherein the company has to pay for the amount of CO2 they produce. Businesses that can reduce emissions will invest in cleaner options as long as it is cheaper than paying taxes.
  • The creation of a carbon market that allows companies to buy and sell i.e. trade the “right to pollute” from each other.
  • Carbon trading within the carbon market is the most popular method used by the countries to reduce their greenhouse gas emission.
  • It is an approach wherein each country has a cap on the amount of carbon they are allowed to release.
  • Carbon emissions trading then allows countries that have higher carbon emissions to purchase the right to release more carbon dioxide into the atmosphere from countries that have lower carbon emissions.
  • The carbon trade also refers to the ability of individual companies to trade polluting rights through a regulatory system known as cap and trade.
  • Cap and trade is a government’s regulatory program that aims to limit or cap the total level of emissions of certain chemicals, especially carbon dioxide, due to industrial activities. Through this program, companies that pollute less can sell their unused pollution rights to companies that pollute more. This approach provides financial incentives for the government to pollute less.
  • In the initial trading phase of the cap and trade program, the emission permits are either allocated for businesses for free or auctioned.
  • The number of available permits decreases over time, putting pressure on the participating companies to invest in cleaner production options and reduce their CO2 In the long-run, there will be an increasing demand for clean technologies, making them cheaper and more profitable.

What are the advantages of carbon trading?

The combination of all the above-mentioned measures across different jurisdictions and types of greenhouse gases leads to a reduction of emissions. The advantages include:

  • It has the potential to achieve the main objective of reducing emissions and thereby mitigating climate change.
  • It provides incentives that reduce the cost of cleantech options. These include tax breaks, cutting tariff for green products or renewable energy
  • It provides private players with incentives to promote innovation and low-cost and sustainable business solutions.
  • Emission trading generates revenues for government – about $22 billion in 2016 – which can be used to reinvest in green development projects or to decrease the overall tax burden.
  • Environmental solutions: Cap and trade schemes have been very efficient in addressing environmental problems in the past, with trading in sulphur dioxide permits aiding to limit acid rain in the United States.
  • Carbon trading is much easier to implement than the expensive direct regulation and the unpopular carbon tax.
  • Emission trading is found to be more efficient in responding to economic fluctuations than other policy measures.
  • Cap and trade approach make sure that the aim is achieved stringently and flexibly. That is, the ‘cap’ ensures that there is a limitation in carbon emissions through fines and the emission trading within the cap ensures minimisation of the cost of staying within the limit.
  • The cap and trade initiative allowed the open market to fix the price of the carbon. This ensures flexibility and avoids price shocks or unwarranted burdens that can be seen in carbon tax.
  • This approach helps firms identify low-cost methods for reducing carbon emission on-site like investing energy efficiency, leading to a further reduction in expenses.
  • Emission trading allows for a global response to climate change. This method ensures efficient emission monitoring, reporting and verification, which are vital for climate policy to preserve reliability.

Why is the carbon trading approach a failure?

There are systemic failures with the carbon trading approach. They are as follows:

Failure to make projects greener:

  • It was noted that none of the Clean Development Mechanism (CDM) projects in India (Second biggest host of CDM projects after China) could be considered greener than what would have taken place otherwise.
  • For instance, the GFL gas project in Gujarat has been one of the biggest producers of CDM carbon offset credits in the world, selling them to many big polluters in the EU. GFL has profited immensely from CDM and Europe’s polluters have had a cheap way to offset their climate responsibilities without reducing their emissions.


  • It was found that carbon markets are filled with illegal activities by consultants, carbon brokers, project developers, validators, policymakers, NGO professionals and academics.
  • There is very little independent and democratic oversight in the system.

Existing unsustainable practices:

  • Carbon markets are currently fuelled by unsustainable practices.
  • For instance, AT Biopower, a Thai company that generates renewable electricity by burning rice husk, can sell its carbon credits to Japanese and other polluters.
  • AT Biopower presents rice husk as a waste product. However, it is actually a vital source of fertilizer for local farmers.
  • Due to the reduction in the availability of rice husk, the local farmers are dependent on petroleum-based, chemical fertilizers, which create loss and negative environmental impacts.

From the aforementioned cases, it is evident that carbon markets have failed to reduce greenhouse gas emissions.

Can carbon trading be reformed?

  • Numerous loopholes that currently exist within the carbon markets need to be closed to reduce the threat posed by the existing carbon trading schemes.
  • Addressing these could require the following:
  • Removing all offsetting from trading schemes
  • Banning speculative trading activity
  • Auctioning all pollution permits
  • Global regulation to prevent countries from lowering their regulatory standards
  • Supplementary interventions to promote innovation
  • It is doubtful whether a new mechanism with necessary reforms could be distinguished from other regulations like standard-setting, except that they would be far more complex and thus more time consuming and more difficult to implement.
  • The on-going calls to address these loopholes have led to very few improvements in practice because of the high political influence of polluting industries, financial actors, etc.
  • Furthermore, currently, governments’ proposals for the expansion of carbon trading is more focused on addressing economic needs, rather than environmental concerns.
  • The likelihood of wholesome reform of carbon trading in the time we have available to achieve a peak and decline in global carbon emission thus looks entirely unrealistic.
  • Given this current scenario, political context and the availability of many simple, direct and proven policies and measures for tackling emissions it is more practical to give more emphasis on simpler, realistic solutions that mitigate climate change and promote inclusive economic development.
  • As for emission trading schemes are concerned, major loopholes must be urgently tackled, but without losing focus on the more effective, viable and equitable solutions that are already available.
  • Furthermore, the expansion of carbon trading at the global level must be halted.

What are the other ways to reduce carbon emissions?

Carbon trading has so far failed to achieve its target. Some of the alternative measures to reduce carbon emissions include:

  • Promotion of the local economy so that follows sustainable development approach
  • Promoting energy conservation at the local level as the limitations and advantages of the particular terrain is well known to the locals.
  • Promotion of environmentally friendly solutions with consideration to what constitutes a waste product. If the waste product is being used for any sustainable economic activity it should not be consumed for other future projects unless there is an excess of the same
  • Community-owned energy generation promotes a grass-root level need to ensure sustainable and profitable energy generation.
  • Carbon taxes must be increased while simultaneously promoting and supporting green energy and technology.
  • Clamping down tax avoidance within countries could increase government revenue, which can be invested in green technology.
  • Fossil-fuel subsidies must be redirected to clean energy. The global subsidies for the production and consumption of fossil fuels are estimated at $700 billion per year.


There is no one-size-fits-all solution for climate change. Carbon trading, though it intends to reduce emission, does not address the issue of pollution in reality as it legitimises emissions to a certain extent. Solving the existing loopholes and reducing the expansion of carbon trade and enforcing regulations that have already proven to be successful, must be ensured so that the global economy becomes inclusive and sustainable.

Test yourself:

What is carbon trading? Has it proven to be an efficient tool to mitigate climate change? (250 words)

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